Canaccord Canaccord Genuity
17th July, 2017
Recommend buying on Friday's selloff;
Maintain BUY, US$8 target
We believe that Friday's 27% selloff was overdone and recommend buying shares on the weakness. Yes, we were surprised by the proposed rate changes published by CMS on Thursday, but we do not believe the 27% decline was warranted. We estimate that the negative rate change would effectively be less than 20% and only apply to ~75% of CRHM's volume which is associated with lower GI procedures. Assuming a 15% rate cut on this portion of the business, we estimate there would be a 19% reduction in 2018 consolidated adj-EBITDA to common. Notably, even with these proposed cuts, we contend that CRHM would maintain meaningfully higher margins than peers. Until we have more clarity from management on the expected impact, we will maintain our estimates and price target, but still believe investors can find value after Friday's decline. Shares trade at 7.4x our existing 2018E adj-EBITDA to common est., and 9.2x the adjEBITDA to common est. in our analysis on the next page assuming a 15% rate cut.
We estimate the proposed rate cut would be less than 20% on an estimated 75% of CRHM's volume. CMS has proposed that the base units for the two billing codes related to anesthesia services provided with lower GI procedures be reduced from five to four. This is a 20% reduction. However, the actual reimbursement to CRHM is determined by adding the base units + time units, then multiplied by the reimbursement factor. When considering the time units, the reduction in total units would be less than 20%. Furthermore, this reduction in base units only applies to the two codes related to anesthesia services provided with lower GI procedures, which we estimate makes up ~75% of the patient cases performed by CRHM. This implies less than a 20% rate reduction on ~75% of CRHM's volume. We note that there are potentially other factors which impact reimbursement rates which we are not considering in this analysis.
Sensitivity analysis. In our sensitivity analysis on the next page, we illustrate the potential impact to rev., adj-EBITDA, and adj-EBITDA to common, under various rate cuts (5-25%) on the two billing codes used for anesthesia services provided during lower GI procedures (which make up ~75% of CRHM's volume). Assuming a 15% rate cut on 75% of CRHM's volume, we estimate a ~19% reduction in 2018 adj-EBITDA to common. This analysis assumes the following: (1) The proposed rate cut would apply to 75% of our anesthesia services rev. est. for 2018. This is likely conservative, given that the proposed rate cut would only impact Medicare which comprises ~30% of rev. However, it is likely that commercial payers would follow Medicare rate cuts over time. (2) The company continues its acquisition strategy, thus no change to our M&A
assumptions. (3) No change to the product sales segment, corporate expenses, or the cost structure for the anesthesia services segment. This conservatively implies that the amount of the revenue reduction from the rate change will fully drop to the adj-EBITDA line. (4) We do not consider the positive impact from the proposed increase in base units for code 007X2 (code related to upper GI procedures).
CRHM would still maintain industry high margins. We contend that CRHM would still maintain industry high margins, even under the high end of rate cuts in our sensitivity analysis. For example, with a 25% rate cut to the two lower GI codes, we estimate CRHM would have an adj-EBITDA margin of 43%. This compares to our current 2018 est. of 52%. Peers EVHC and MD have 2018E adj-EBITDA margin of 13% and 18%, respectively.